Reserves and Resources

It is important to understand the broad context of mineral resource classification systems. Ultimately they are used for investor confidence, and compliance with financial regulations.

As financial markets have become more globalised in recent decades, there has been some consolidation of these systems. And although different systems remain in use, most contain two major features.

First, they distinguish between mineral “resources” and “reserves”. Although these words could seem almost interchangeable to the outsider observer, they carry distinct and different technical meanings in this context.

Second, they refer to degrees of confidence. Expressions such as “proved” and “probable” reserves or “measured” and “indicated” resources, which may seem abstract, are in fact underpinned by percentages of confidence.

Difference between reserves and resources

The difference between “reserves” and “resources” is huge. If a company reports mineral resources, it is simply declaring that a certain amount of natural resource exists physically in a given location. It is a geological evaluation. If, on the other hand, it reports mineral reserves, it is making a much bigger statement. Not only do the resources exist, but some portion of them is commercially extractable. Given a certain set of market and technological conditions, it is possible to produce out the stated quantities of them. Reserves are a commercial definition.

This can be illustrated with one simple example. Iron is one of the commonest elements on the planet. In terms of resources, geologists estimate that 5% of the entire crust of the Earth is made up of iron ore. The market for iron ore increased dramatically since 2000, to reach a little over three billion tonnes of production a year in 2013-14. At that rate, though, the geological resource on the planet would last for over a billion years of production. And yet, despite its ubiquity, three countries (Australia, Brazil and China) account for over 75% of global production, and production remains highly sensitive to demand. After global prices crashed from around $130 per tonne to just $35 per tonne in 2014, many new projects planned around the world, particularly in West Africa, were put on hold. Clearly, then, production has nothing to do with the geological availability of the resource, and everything to do with how much of that resource is available where, at what cost of production – the available commercial reserves. The proportion of the known iron ore resources on the planet which have been converted into commercial reserves is a fraction of a fraction of a percent.

In their reporting to investors, and to governments, companies may use either reserves or resources figures, or both. Since, as we have seen, reserves are effectively a sub-set of resources, any reserves figure has necessarily been built on a resource estimate, which continues to exist separately, even if it is not quoted alongside the reserves. But the converse is not necessarily true. Resource estimates do not predict the presence of reserves.

Resource estimates alone, therefore, are highly unpredictable in commercial terms. Lots of early stage investment, particularly in new areas, may take place purely on the basis of resource estimates – but in the expectation that those estimates will be converted into reserves estimates before full and expensive development of the mine or oilfield gets very far. This is a critical point for governments.

Degrees of confidence

A resources or reserves figure is not the end of the story. Within each category, most classification systems deploy “degrees of confidence”. It is common to see three different levels of reserves expressed for the same field simultaneously. The highest level is “proved” reserves, where the company is declaring that it has 90% confidence that this figure can be produced. A middle estimate of “probable” reserves includes a second category where the company expresses 50% confidence, and a third, “possible” reserves, includes a tranche where the company expresses a 10% degree of confidence of production.

Each of these is expressed against current market, regulatory and technological conditions. So if a company quotes a “P90” figure (reserves with 90% confidence) of 100 million barrels of oil, it is saying that it is 90% sure that this much will get produced with global prices of today, using technology which exists and which the company has access to, with all necessary infrastructure, licenses and agreements in place. This means that all such figures have been arrived at by using specific estimates of future prices and costs – whether or not these estimates have been included alongside the reserves or resources figures themselves.

As these definitions include current prices, companies should in theory constantly shift quantities of the commodity in between different categories in response to changing market conditions. When price goes up, you might expect to see P90 and P50 reserves increase, and the converse when they drop. Many oil companies declared big “write offs” in asset values in response to the price crash of 2014, for example, where not only did they have to calculate lower revenues and profits per barrel but also to exclude from future production schedules those reserves which were now no longer producible against a market price of $50 per barrel instead of $100 per barrel.

Processes of declaration and certification

Because so much rides on these asset valuations, financial markets often impose procedures for when they should be carried out, and by whom. The major exchanges for publicly listed extractives companies (notably the USA, Canada, Australia, the UK and South Africa) set criteria for the “materiality” of asset evaluations. If a given resource represents more than a proportion of a company’s entire asset base, or if a key event in the life of a company has been triggered, such as the sale of an asset, or indeed of the company itself, regulations may require resources and reserves estimates according to a specific classification system. Regulation or custom may also require the evaluation to be carried out by a certified independent professional consultant or firm, and the websites of these major financial markets contain tens of thousands of declarations by such third-party experts. These are compliance level documents. And in addition to what is required by regulation, listed companies will often publish such estimates voluntarily if they seek investment, to boost investor interest and confidence.

This might seem surprising to officials in many governments, because they do not see such declarations by companies operating in their countries. But this is because of course many extractives companies are not publicly listed. Some, particularly smaller and “early stage” companies concentrating on exploration, may be privately held, and not subject to the same degree of reporting for compliance. Others are partly or wholly state-owned, or held in other jurisdictions. Saudi Aramco, for example, holds by far the largest oil reserves of any oil company in the world, reinforcing Saudi Arabia’s continued position as “swing producer”. But no independent evaluation has ever been published.

Not only that, but even the major publicly listed companies may not publish reserves of individual fields because, being larger, the same level of resources in a given field may not trigger a reporting requirement.

That is why it is all the more important, from the government perspective, to understand that these classification systems are used in any significant extractives investment. If they are not published they are in internal use - and likely to fall within contractual rights of access to information for governments.